Whilst the ability to recover legal costs incurred in court proceedings in Russia may not be uppermost in the mind of a prospective litigant, the current financial climate renders this issue an important factor to consider when determining whether to proceed with litigation. This briefing examines what costs may be recoverable under the Russian commercial procedural rules and addresses certain relevant legal and practical issues.
Recoverability of legal costs incurred – basic rules
The right of a successful party to seek recovery of legal costs flows from Chapter 9 of the Arbitrazh Procedural Code of the Russian Federation (the “Code”), introduced on 24 July 2002. Article 110.1 of the Code provides that “legal expenses incurred by persons participating in proceedings in whose favour a court judgment is rendered, are recoverable from a party”. This article establishes the framework for a “person participating in the proceedings” (being, in accordance with Article 48 of the Code, the claimant, the defendant, applicants and interested persons (eg in bankruptcy proceedings) or the Prosecutor’s Office or other state bodies) to seek recovery of legal expenses from the claimant or the defendant in those proceedings.
Article 101 defines legal expenses (sudebniye raskhodi) as: (i) state duties; and (ii) legal costs (sudebniye izderzhki). Article 106 clarifies that legal costs include “sums payable to experts, witnesses, translators, costs associated with inspection of evidence on site, the cost of an advocate’s services, the costs of services of other persons providing legal assistance (representatives) and other expenses incurred by persons taking part in the case”. Further, such costs must relate to the consideration of the case by an arbitrazh court.
The recovery of state duty has never posed any major legal issues as under Article 110 of the Code such duties must be recovered in full from the losing party. In practice, the courts have always ordered such recovery even in the absence of a special application from a party.
The much more difficult problem is the recovery of legal costs. The right to seek recovery of legal costs is subject to a reasonableness test under Article 110.2 which provides that “costs of a representative’s services incurred by persons in whose favour a court judgment has been rendered are recoverable from another person participating in the proceedings, within reasonable limits” (emphasis added). What is reasonable is determined by the court at its discretion.
Recovery of legal costs incurred – some practical guidance
Although Articles 110.1 and 110.2 set the foundation for a successful party’s entitlement to seek recovery of legal costs, the practical application of these provisions is difficult. Some clarification is provided in Information Letter No. 121 issued by the Presidium of the Supreme Arbitrazh Court of the Russian Federation on 5 December 2007 (the “Letter”). The key points of that Letter are covered below.
(a) The party entitled to recover costs
It is unsurprising that a party to the proceedings (ie a claimant or a defendant) in whose favour a decision or judgment is made becomes entitled to recover costs. Article 110, however, on its simple reading also applies to persons other than the parties (see above). The Supreme Arbitrazh Court has confirmed the right of a third party intervener to the proceedings to seek recovery of legal costs in the event that a decision is issued in its favour. That said, the Letter emphasises that a non-party intervener is only able to recover legal fees incurred by it in the course of proceedings where it is appealing a court judgment.
As noted above, to become entitled a party must have a court decision in its favour. In the event that proceedings settle before there is such a decision, settlement agreements usually stipulate how costs incurred pre-settlement are to be allocated between the settling parties. Settlement agreements are often made out-of-court and require the claimant to withdraw his claim. From a procedural point of view such withdrawal, whether on its own initiative or as a result of an out-of-court settlement, means that the claimant will remain under an obligation to compensate the defendant for legal costs if the defendant files a respective application.
Further, it is often the case that Arbitrazh Court proceedings terminate not by a judgment but by a procedural ruling (eg striking out the case or terminating the proceedings, etc.). It has been heavily debated whether such an end in fact amounts to the establishment of a winning and a losing party. The Supreme Arbitrazh Court took the view that in such cases the court should allocate legal costs proportionally by reference to claims granted. For example, if the proceedings are terminated because the defendant was unreasonably sued, then the legal costs incurred by the defendant should be recovered from the claimant as if the latter were a losing party.
(b) Timing for seeking recovery
The Supreme Arbitrazh Court has also clarified that a party entitled to claim costs is free to choose when to make an application for such recovery. The application can be made to the court considering the case at any stage of the proceedings (ie at first instance, appeal or cassation). In the event that no application is made at any of the three instances and the proceedings have come to an end, the applicant party is free to make an application to the court of first instance. The application would need to be made under the same case reference, ie a new set of proceedings should not be commenced. Presently, there is no time limit for making a costs application.
(c) Reasonableness test and burden of proof
As noted above, Article 110.2 of the Code prescribes that costs are recoverable “within reasonable limits”. It does not, however, set out who bears the burden of proof or what matters will be taken into account by the court when considering what is reasonable. The Letter, combined with guidance previously issued in Information Letter No. 82 of the Presidium of Supreme Arbitrazh Court, dated 13 August 2004, provides some clarification.
The applicant must prove: (i) the fact that fees were incurred; and (ii) the amount of such fees. The respondent may dispute both and demonstrate that the fees are excessive. Even if the respondent does not raise the excessiveness objection or does not provide evidence in support of the same, the court may (and often does) reduce the amount of fees claimed if it considers their amount to be unreasonable.
Legal costs must have been actually incurred in relation to the proceedings for which their recovery is sought, ie these costs must have been paid to the representative acting on behalf of the applicant in the course of the same proceedings. In practice, any legal fees paid to another lawyer (eg for additional advice, including where such services were provided in relation to the same proceedings) are not deemed to be recoverable costs. That said, if several lawyers within the same firm or several different firms are instructed to act together and this passes the reasonableness test, then the cost is recoverable. Equally, although again subject to the reasonableness test, fees for foreign counsel may also be recoverable.
The applicant usually discharges his burden of proof in this regard by providing the court with evidence of the engagement between the applicant and the representative (relating to the case in question), legal services acceptance act, copies of the invoices issued pursuant to the same and evidence that these invoices have been paid. In the event of partial payments, only the portion that has been paid is recoverable. Further, the invoices need not have been paid by the applicant personally and may have been paid by a third party on the applicant’s behalf, assuming there is a reasonable explanation for the third party payment arrangements. Lawyer’s invoices which have been issued but not paid will not be taken into consideration by the court.
According to the Letter, when determining whether legal fees are reasonable the court should take the following factors into account:
- the amount of time a qualified lawyer would normally be expected to spend on such a case;
- the existing charge out rates for legal services in the respective region;
- the duration of the proceedings and any tight timeframes;
- the involvement (if any) of foreign law;
- the business trips rates provided by relevant legislation; and
- the costs of “inexpensive” transport services.
The existence of a legal department within the applicant organisation is of no relevance to the application. So, if a company has engaged outside counsel to represent it in court, the counter-party cannot object to the recovery of fees by arguing that this work could have been done in-house. It does not appear that time spent by in-house lawyers/representatives is recoverable from the losing party, whether such time is calculated by reference to the in-house representative’s salary or any bonus paid to the in-house representative.
While the enforceability of success fee agreements between clients and lawyers is a matter for separate debate (see below), in the context of an application for recovery of costs, assuming the applicant has paid its lawyer, the applicant should be able to seek recovery from the respondent irrespective of the conditions on which these fees were paid and the way they were calculated.
The factors above must also be considered where an application is made in the context of tax litigation. However, it should be noted that tax authorities are notoriously resistant to such claims. A good example of this is OAO Bolshevik, a Danone Group bakery company, which tried (unsuccessfully) for a number of years to recover its legal fees paid in connection with disputes with the tax authorities. Initially, OAO Bolshevik sought to recover RUR 1,609,455 (approximately US$53,650), but then decreased this amount to RUR 574,200 (approximately US$19,150). Ultimately, OAO Bolshevik abandoned the proceedings due to lack of cost-effectiveness.
Contingency fee arrangements
Another problematic issue related to legal fees in Russia are “no win no fee” arrangements. The first comprehensive analysis of such arrangements was conducted by the Constitutional Court of the Russian Federation in its Ruling No. 1-P “On Proving the Constitutionality of Article 779.1 and Article 781.1 of the Civil Code of the Russian Federation in Conjunction with the Claims of Limited Liability Company “Agentstvo Korporativnoi Bezopasnosti” and Individual V.V. Makeev”, dated 23 January 2007 (the “Ruling”). Article 779.1 of the Civil Code provides that under a services agreement a contractor undertakes to render certain services to a customer and the latter undertakes to pay for such services. According to Article 781.1 the customer must pay for services rendered in accordance with the terms and conditions of the services agreement.
In brief, LLC “Agentstvo Korporativnoi Bezopasnosti” and Mr. Makeev tried to challenge the abovementioned provisions of the Civil Code in the Constitutional Court, since the arbitrazh courts rejected their claims for the recovery of contingency fees from their clients with reference to these Articles.
The Constitutional Court stated that parties to a legal services agreement are entitled to determine the amount of remuneration as a percentage of the amount claimed. However, the Constitutional Court took a formalistic approach, stating that Russian legislation does not permit legal fees to be conditional upon a future court decision. The Constitutional Court noted that the above does not exclude the right of the legislator to provide for special regulation in relation to contingency fees.
In other words, should the parties to a contingency fee arrangement be in dispute, a lawyer’s claim against his client to pay such fees can not be upheld by the court if the claim is based on the contingency fee provision of the legal services agreement. The Constitutional Court explained that obtaining a positive court decision can not be the subject matter of a services agreement and therefore any contingency fee provisions are in breach of Russian civil legislation.
Nevertheless, should there be no dispute between a lawyer and a client who has paid a contingency fee, the fee can be recovered from the losing party.
It is worth noting that one member of a panel of ten judges of the Constitutional Court issued a dissenting opinion in which he did not agree with the overall conclusions of the majority of judges. The judge Kononov noted that the Civil Code of the Russian Federation does not contain any restrictions in relation to the procedure for calculating the amount of legal fees and payment conditions. The judge further noted that a client has a particular purpose when entering into a legal services agreement with a lawyer (ie to obtain a court decision in its favour), which does not contradict the legal nature of relationships for the provision of legal services.
The above demonstrates that the overall attitude to contingency fee arrangements in Russia is far from clear.
Notwithstanding the Supreme Arbitrazh Court’s efforts to introduce guidelines concerning the recovery of legal fees in Russian proceedings, the value of these guidelines is greatly diminished by the minimal sums awarded by the Russian courts. Arbitrazh court judges adopt a very conservative approach to costs awards. Recovery of 100% of costs is virtually impossible. Courts almost always significantly reduce the amount sought, whether prompted to do so by respondents or of their own initiative.
For example, in one case in 2004 where RUR 2,909,499 (approximately US$93,850) was sought, the Moscow Arbitrazh Court ordered reimbursement of only RUR 60,000 (approximately US$2,000). In another case in 2007, the arbitrazh court (the Ninth Arbitrazh Court of Appeal) ordered recovery of RUR 1,000,000 (approximately US$32,260) of the RUR 3,504,500 (approximately US$113,000) that was sought. A further example is the 2008-2009 case where the Arbitrazh court of the Omsk region ordered recovery of RUR 65,000 (approximately US$2,000) when the amount of RUR 6,779,498.25 (approximately US$218,700) was sought. In a 2009 case the Supreme Arbitrazh Court reduced the fees for running litigation in three court instances from RUR 100,000 (approximately US$3,100) to 12,000 (approximately US$370). In all these cases legal fees were reduced using the reasonableness test. In light of this, it is to be queried whether the “reasonableness test” is reasonable.
A recent judgment of the Arbitrazh court of the Murmansk region rendered on 12 October 2009 is notable in this regard. The court ordered recovery of 100% of costs equal to RUR 2,040,357.74 (approximately US$68,000) from the local tax inspectorate in favour of LLC “Torgovaya Kompaniya MKTI”. It should be also noted that previously, pursuant to the judgement of the Federal Arbitrazh Court of North-West District, dated 28 July 2008, LLC “Torgovaya Kompaniya MKTI” recovered from the tax inspectorate the costs amounting to RUR 894,707.45 (approx. US$29,820). This is reported to be the highest amount ever granted in tax claims.
In summary it is true that whilst there is an opportunity for some legal costs to be recovered by a winning litigant, Russian judges have demonstrated a noticeable reluctance to award any significant sums. This begs the question of whether an application to recover costs is worth the effort at all.
Finally, certain recent legislative amendments to the Code which took effect on 21 October 2009 relate to the respondent’s duty (as opposed to right) to submit a statement of defense ahead of the hearing. Prior to these amendments, filing a defense ahead of the hearing on the merits was optional, so many respondents used this as a tactic to surprise the claimant with arguments that a claimant would only become aware of in the courtroom during the hearing. When the legislator rendered timely submission of a statement of defense a duty (as opposed to a right), it also provided that the penalty for not serving a defense in a timely manner would be the imposition of legal costs on the respondent irrespective of the outcome of the case. It is doubtful as to whether this penalty will become a powerful tool in light of the above issues where the amounts of legal costs granted by the courts are negligent.
One of the senior officials of the High Arbitrazh Court noted in a recent conference in Moscow that “losing is cheap”. The situation is unlikely to change while this statement remains true. Notably, no changes to the legislation are required since the legal framework is in place from 2002. What is required is the change of attitude of judges as to what is “reasonable”.